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Faith in metal-backed lending in China is corroding – and so is confidence in the country’s giant credit system. Authorities and banks, including Standard Chartered and Citic, are investigating whether traders at Qingdao port used the same lot of copper and aluminum to back multiple loans. Vanishing collateral isn’t a new problem, but could prove to be China’s weakest link.

Lending backed by warehouse receipts is common and helpful, and not just in China. Often, a bank will buy metal in the form of a document showing ownership, with a pledge to sell it back after six months. In hard-asset fixated China, this has morphed from a way of facilitating trade to a method of obtaining speculative finance. Fraud can result when records are out of date or papers fake, as seems to have happened in Qingdao.

The direct damage looks manageable. Copper tied up in questionable trades in Qingdao may amount to 20,000 tonnes – that’s about $140 million at spot market prices. Traders are moving their shipments to other ports that are considered to be better regulated. Some banks may have to write off debts, or mark them up as riskier. But assuming these lenders still want China to treat them favorably, they are unlikely to protest too much about poor controls, or sharply pull back credit.

Imaginary collateral, though, is a deeper problem. Steel traders also backed multiple loans with the same piles of metal in 2012. In a different riff on the same theme, the timber company Sino-Forest came under attack in 2011 from short-sellers for fabricating the trees that made up its main asset. Foreign banks can find themselves exposed because cargo owners use collateral to obtain cheaper overseas loans, and invest at higher returns in China. The problems in Qingdao suggest the banks have failed to learn their lesson.

China can just about manage without foreign lenders, but it can’t do without collateral and confidence. These underpin the explosion in nonbank lending, including trusts and investment products sold to individuals, which has now reached around two-thirds of gross domestic product, according to estimates from Barclays. Copper and aluminum are transparently priced and easily traded, the same isn’t true of coal mines, houses or shopping centers. If supposedly sophisticated banks can get caught out, the rest should be nervous.

John Foley is Reuters Breakingviews China editor. For more independent commentary and analysis, visit breakingviews.com.